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Capital Gains Taxes: Myths, Misconceptions and Lies

The country is going through another bout of bumper sticker economics over a capital gains tax.

With the Auckland property market performing its well-known impression of a runaway circus elephant whose keepers have shoved a cocktail of speed and hallucinogens into the feed — and with the New Zealand dollar also having one of its periodic bouts of hyperkineticism the calls have gone out again for such a tax.

The latest push seems to have been fuelled by Labour leader David Shearer’s claim on television that a capital gains tax would cause people to put more money into businesses.

As an example of muddled economic thinking, it takes some beating and it is worth quoting Mr Shearer in full:

“What I’m saying is that what we need to do is to grow the economy in a way that it’s not growing at the moment, and we’ll be talking about Tiwai Point in a little while … one of the big problems about— no, no, let me finish — one of the biggest problems about that is that the exchange rate is so low that we are seeing many of our businesses actually going out of business because they are not being able to succeed.

“We’re not putting our money in the profitable sector; it’s going into the property market because we don’t have a capital gains tax that will help us direct money into those areas.

“And if you are wanting to raise money, then at least put money into businesses — invest in businesses through the incentives of capital gains, and that brings, obviously, money into the government as well.”

Leave aside for the minute that Mr Shearer is under the strange misapprehension New Zealand’s exchange rate is on the low side. Even though it attracted quite a bit of negative comment, that part is not the most important part of his comment.

The more important parts are the claim that New Zealand is not putting money into its profitable sector, and that a capital gains tax would mean the country would start doing so.

None of those claims are true.

First, capital investment in New Zealand has held up remarkably well, despite some tough economic times.

Furthermore, residential investment has actually fallen.

Not what you’ve heard?

Then take a look at the figures from the most recent GDP figures, released last month.

Overall business investment rose 5.4% last year, dominated by 7.6% rise in investment in plant machinery and equipment.

And residential investment is now only14.4% of total capital investment in New Zealand in 2007 it was 20.4% of total capital investment.

In other words, a major shift in investment is happening. The notion that New Zealand firms are being starved of investment because of the absence of a capital gains tax simply is not true.

Not all capital gains taxes are alike

The second point is there is no reason to think the kind of capital gains tax being pushed by Labour and the Greens would do what they say it would do.

It would, first, apply to businesses, which are not Current subject to capital gains tax It is difficult to see how this is supposed to help such investment.

Second, it would not apply to two-thirds of the residential property market, because it exempts owner occupied housing. This is important, because opposition politicians are inclined to talk as if everyone who advocates a capital gains tax is advocating the same kind of CGT they are pushing.

True, Treasury, the OECD and the IMF have all talked of New Zealand having a Capital gains tax.

But not for the same reasons – and certainly not in the same form as what is being pushed at present.

There is no reason to think a Capital gains tax would stop any future property bubble: it certainly did not in Australia or the United States.

The reason Treasury, the OECD and the IMF all talk of New Zealand having a Capital gains tax is to broaden the tax base and to cover off an area of income not currently taxed.

Crucially, the idea is emphatically not to increase overall taxation: it is to allow tax reductions in other areas.

That is the last thing Labour or the Greens have in mind. In fact, they plan to increase, rather than decrease, income taxes, with the return of a 39% top tax rate imposed by the last Labour government.

In short, the policy is a tax grab under the guise of a concern about the current property bubble in Auckland.

It is the worst kind of bumper-sticker analysis to accept this claim at face value.

It is borne out neither by what is happening in the economy at present, nor by how such a tax would actually work.